Physical Damage Requirement and COVID-19

Originally published by Jeff Raizner.

As insurance claims from businesses seeking coverage for losses sustained due to the new coronavirus or COVID-19 continue to pour in, many business owners feel left in the dark as to whether or not their current policies provide coverage for such an event. While some policies may allow for coverage, many business interruption policies require physical damage in order to trigger policy coverage. The physical damage requirement may vary from one policy to the next—or even within different parts of the same policy—but it is a common requirement in most commercial property insurance policies.

Civil Authority Coverage and the “Direct Physical Loss or Damage” Requirement

In previous posts, we’ve discussed civil authority coverage under business interruption insurance policies. This is the most common business interruption-related endorsement likely to apply. Civil authority coverage outlines coverage when the interruption is caused by an applicable government entity. Under civil authority coverage, certain important stipulations must be met in order for coverage to be valid, including:

An order of civil authority

The most fundamental requirement of civil authority coverage is an “order of civil authority” that forces a business to shut down. Normally, this involves an order to close businesses in the event of a hurricane, tropical storm, or other natural weather event. The government’s mandated “stay-at-home,” “shelter in place,” or other similar orders that result in a full or partial closure of a business constitute orders of civil authority for purposes of triggering insurance coverage.

A common misconception about civil authority coverage is that simply because a state or local government has issued an order that results in a business being closed, there is coverage for that business’s lost income or incurred expenses (or other “business interruption.”) This is rarely the case; most civil authority policies require some aspect of physical damage in order to trigger coverage.

Order must be in response to physical damage to a location other than the covered property, sometimes within a geographic area close to the covered property.

Some civil authority endorsements impose a requirement of “direct” physical loss or damage. Under a typical civil authority endorsement, there must be “direct physical loss or damage” to a property “other than at a covered location.” This means the damage doesn’t have to occur at the covered business, but somewhere else. Policies vary greatly on this, but some impose a geographic requirement – e.g., within a one-mile radius of the covered business. Some have no geographic restriction. But the consistent requirement is that there must be direct physical loss or damage somewhere.

Civil authority must be a result of physical damage or loss “caused by a covered peril.”

Civil authority coverage’s biggest challenge is proving the order itself was a result of (or in response to) the physical damage that happened somewhere, and that damage would be covered under the policy.

Courts have consistently interpreted this provision to mean, at minimum, physical loss or damage be one of the reasons for the civil authority order. This ultimately reinforces the requirement that the civil authority order have some relation to physical damage. What makes this even more challenging is that the damage must be caused by a “covered peril” under the policy. So if, for example, a policy excludes flood damage, then there would probably be no coverage if the civil authority order was in response to flooding.

How would civil authority coverage be triggered?

Consider an example involving a hurricane. Let’s say a hurricane makes landfall in Louisiana, and in response, a Texas county official issues an evacuation order. All businesses in the Texas county are forced to shut down because of the evacuation order. Fortunately for those businesses, the hurricane misses Texas entirely. One business has a civil authority endorsement with no geographic restrictions, and wants to make a claim for lost income.

Under these facts, the business could plausibly argue there was (1) a civil authority order (the evacuation order) that was (2) the result of direct physical damage “other than at a covered location” (i.e., the damage happened in Louisiana, but not Texas), and (3) the civil authority order by the Texas county official was a result of that damage in Louisiana. If the business owner can show damage in Louisiana caused by the hurricane was a “covered peril” under his policy, it would likely prove up coverage.

What Constitutes Physical Damage For A Claim Based on COVID-19?

Even policies without a civil authority endorsement will likely require physical loss or damage for COVID-19 coverage to be triggered. Most “all risks” policies – which cover all risks of a certain type of loss unless excluded – have the same requirement of direct physical loss or damage in order to trigger coverage.

For those of us living in coastal states that have lived through hurricanes, the “direct physical damage” of a hurricane is obvious. 100 mile-per-hour (or more) winds, heavy rains, and even tornadoes spawned by the hurricanes sometimes destroy everything in their path. But with COVID-19 – dubbed by some as the “invisible killer” – the physical damage requirement is much harder to prove.

Can a Virus Result in Physical Damage?

Specific language similar to “direct physical loss or damage” is contained within an insured’s business interruption insurance policy. Can a virus directly result in physical damage, though? Physical damage does not necessarily mean the destruction of property. As part of its claim, the policyholder must prove the property sustained a physical loss or damage.

Lawmakers and government officials have suggested that the presence of COVID-19 on surfaces within a business constitutes a physical loss. If true, this is helpful to policyholders, because under most policy provisions, the policyholder must still establish that the virus was present within their property. Since scientific evidence indicates COVID-19 is highly contagious and can live on surfaces for days or even weeks, the mere presence of those diagnosed with the coronavirus could potentially be strong circumstantial evidence of contamination of the building premises.

Previous examples that have recognized this type of physical damage include two court decisions. In 2005, a homeowner discovered E. coli bacteria contaminated their well, rendering the home uninhabitable. The court found the E. coli contamination constituted a physical loss in the event the “functionality of the property was nearly eliminated or destroyed.” Hardinger v. Motorists Mutual Insurance Company, Civil Action No. 03-CV-115 (E.D. Pa. Feb. 27, 2003).

In 2014, a manufacturing facility released ammonia. The court found the release physically transformed the air within the facility and inflicted “direct physical loss of or damage to” the manufacturing business, as the ammonia physically rendered the facility unusable at that time. Gregory Packaging, Inc. v. Travelers Property Casualty Company of America, No. 2:12-cv-04418 (D. N. J. November 25, 2014).

Although the physical damage requirement for COVID-19 is no doubt challenging, there are several avenues by which policyholders may show coverage.

COVID-19 Insurance Claims Attorneys

At Raizner Law, we understand this is an unprecedented time for many business owners and patrons alike. As closures continue to affect the livelihood of many, insurance agencies continue to delay or completely deny coverage. Our attorneys are experienced in complex insurance cases and want to help you get your business back on its feet. Contact us today to see how we can help you with your COVID-19 insurance claims.

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